Has the capital markets regulator, Securities and Exchange Board of India (Sebi), issued the draft guidelines to govern investment advisers or not? In September, an independent financial adviser put up a copy of what looked like draft investment adviser (IA) guidelines on his website and claimed to have a copy of the “leaked” document. When we asked a senior Sebi official whether that was, in fact, a copy of the IA guidelines, Sebi distanced itself from the leak episode.
However, a closer look at the agenda of the Sebi board meet held on 16 August on Sebi’s website (see it here, http://www.sebi.gov.in/sebiweb/meeting/boardmeetings.jsp) reveals that the draft IA guidelines was, in fact, prepared by Sebi; a document that now lies with the Sebi board for consideration. Also, what appears to be a first-cut decision has been put on Sebi’s website next to the draft IA guidelines.
What does this mean? In simple words, Sebi has issued the draft IA guidelines. Unconfirmed reports say that Sebi could make an announcement on IA guidelines soon, “probably in December itself”.
Distributor or adviser
Last year, when Sebi announced its intention to govern financial advisers (through a concept paper it floated), it gave a choice to MF agents—to be either an agent (who can earn commission from fund houses) or a financial adviser (as per IA guideline’s definition; who can charge fees to clients).
However, the draft IA guidelines tell us that now agents can be both—financial adviser as well as MF agent. “Sebi’s step down—if at all that is truly the case and we’ll know for sure when the final guidelines come out—is most welcome. Now, the onus to create a competitive proposition lies with the financial adviser or distributor. S/he can offer a wide range of services for the client’s benefit,” says Vijay Venkatram, director, Wealth Forum, an online MF platform that disseminates news and information relevant for financial advisers.
So far, in India, distributors of financial products are not regulated. But the need to regulate them was felt on account of several cases of mis-selling coming to light in recent years. Yet the challenge was how to regulate so many distributors—MF agents alone are estimated to be about 80,000 (though half of them are inactive)—spread across the country. The other challenge was who will govern them given that a financial adviser, typically, sells many products including insurance policies, fixed deposits and postal saving schemes, all of which are governed by various regulators such as Reserve Bank of India, Insurance Regulatory and Development Authority, Pension Fund Regulatory and Development Authority and so on, apart from Sebi.
Last year, Sebi took the lead by issuing a concept paper—a sort of a proposal that listed out its thoughts, rationale and intent—to govern financial advisers. Initially, Sebi demarcated the roles of a financial adviser from that of an MF agent and said that only those distributors who charge fees to clients will be termed as “financial advisers” and will be covered by the IA guidelines. These financial advisers, however, should not take any commission from fund houses, it said. Typically, fund houses pay commissions to their agents in two ways—upfront and trail commissions. While upfront commission goes to the agent at the time the investor puts money in the MF, the trail commission goes in a staggered manger, as long as the investor stays invested.
Sebi felt that an agent must either serve the fund house or the investor, and not both.
Having allowed a financial adviser to keep earning commission from MFs, the draft IA guidelines have made it mandatory to disclose their commissions earned. First, financial advisers have to set up a separate unit or division that will invest their clients’ money in MFs. This unit will work like a typical distributor that will submit the client’s MF application forms to MFs and earn upfront and trail fees in return.
Second, the financial adviser will have to disclose the commission s/he gets from the MF upon advising a particular MF scheme, if the client chooses to invest through the adviser’s distribution arm.
Not all are happy with this proposal. Says Dhruv Mehta, chairman, Foundation of Independent Financial Advisors (FIFA), a distributor association: “This rule is fine for banks and top independent financial advisers (IFAs) who have a large staff working under them. It is easier for them to segregate their businesses into two separate divisions. But small-time IFAs, who are a one or two people outfit and work as individuals, may not be able to do so.” In which case, Mehta adds that such small IFAs may have to forgo their commission earnings even if they earn, say, just 5% from charging their clients and the other 95% comes from fees earned from MFs, if they were to be registered as a financial adviser.
The chief executive officer of a mutual fund who requested anonymity told us that once the direct plan gets launched (1 January 2013), many agents may be forced to become “advisers” and start charging fees to clients. “Investors will see the difference in cost savings that they will make in direct plans and so many of them will initially shun agents. Of course, it will get very difficult for many of such investors to manage their MF portfolios on their own. Here’s where a financial adviser will come in. A financial adviser will then be able to charge fees to clients and recommend the ‘best direct plan’,” he predicts.
“Regulate all distributors and advisers,” is a solution that a Mumbai-based financial planner gives. This planner says that “the need to regulate financial advisers doesn’t necessarily arise because they are already an in-built SRO (self regulation organization) as the clients are already sensitized to the planner’s advisory skills and pay accordingly.” On the contrary, he says, those agents who get fees from MFs need to be regulated as they are “more prone to mis-selling”.
Hike in fees
Sebi’s change in stance fits well with many agents though, given that most fund houses have announced a hike in commissions that they pay to agents, on the back of recent Sebi guidelines allowing funds to charge higher fees for penetrating beyond top 15 cities (B15) and exit load collection charges.
The first-year payouts (upfront charges and first-year trail fees) have gone by 25 to 35 basis points across equity and long-term bond funds to about 1.75%. A basis point is one-hundredth of a percentage point. Most fund houses have also increased commissions for their equity-linked saving schemes (ELSS) to up to 4.5-5%, up from about 3.5% that they used to pay earlier. “Since ELSS schemes come with a three-year lock-in, investors cannot move out before the period. Hence the trail fee is guaranteed and that is why most fund houses prefer to give the first three years’ trail fees upfront,” says the head of marketing of a fund house who did not want to be named because he is not his fund house’s official spokesperson. B15 charges for the first year have gone up to 3-3.5%.
All eyes are now set on Sebi’s final guidelines on investment advisers.